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The OECD Observer
January 1999, No. 215
Japan’s Outlook
The economic situation in Japan remains grave. A limited rebound is possible in 1999, though expectations are being revised downwards. (This article is based on the Japan section of the OECD Economic outlook, No. 64, December 1998).
Several significant forces have combined to prolong and worsen the Japanese recession that is now well into its second year. The balance sheet problems of the banking sector remain unresolved, and the resulting uncertainty has led to diminished confidence and declines in private spending. Credit conditions have deteriorated, and the crises in emerging markets have exerted adverse effects on Japanese firms’ export growth, profitability and risk premia. Corporate restructuring has led to a fall in employment and incomes. Households have raised their saving rates, and businesses have reduced both their production and investment. And with industrial inventories still at very high levels in relation to shipments and profits falling sharply, pressures for production cutbacks and restructuring are likely to continue unabated. Conditions in the labour market have deteriorated, with the unemployment rate at over 4% and job offers at less than half the number of job seekers. In addition, the number of corporate bankruptcies and the associated liabilities increased by 25% and 28%, respectively, in the first nine months of 1998.
With a cumulative decline in real GDP of 4.5% since the cyclical peak, a sizeable output gap has opened up. This has generated deflationary pressures, with domestic prices falling slightly, despite higher unit labour costs. The core consumer price index (excluding perishables) is falling at a rate of around a half per cent per year. Domestic wholesale prices—goods alone—have been falling at an annual rate of 2%. Import prices too have been falling. Sharp declines in import volumes contributed to a current account surplus of around 3% of GDP in the first half of 1998, the highest surplus in over four years.
Budgetary policy, which was initially slated to be tight in the fiscal year (FY) 1998, was loosened substantially by last April’s fiscal package. A substantial further easing of policy was contained in the November package for FY 1999. Permanent tax cuts of over 6 trillion yen per year will be implemented in 1999, and public investment should continue to increase moderately thanks to an additional 8 trillion yen. ‘Shopping coupons’ are also to be distributed to 35 million households, and additional lending of nearly 6 trillion yen is to be made available. Further measures to promote housing and job creation will be taken. Gross debt is projected to reach 118% of GDP in 2000, nearly double its share in 1992.
| 1998 | 1999 | 2000 | |
| GDP growth | -2.6 | 0.2 | 0.7 |
| Total domestic demand | -3.3 | -0.1 | 0.6 |
| Net exports a/ | 0.7 | 0.2 | 0.1 |
| Unemployment rate b/ | 4.2 | 4.6 | 4.9 |
| Household disposable income | 0.9 | -0.4 | 0.3 |
| General government financial balance | -6.1 | -7.8 | -8.3 |
| Current account balance c/ | 3.2 | 3.3 | 3.6 |
| Short-term interest rate | 0.7 | 0.5 | 0.5 |
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a) Contributions to changes in real GDP (% of real GDP in the previous year). b) % of labour force. c) % of GDP. Source: OECD |
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The monetary authorities have had to confront risks of a deflationary spiral. Their response has been to accommodate the market’s needs for liquidity, to promise stability and, in September, to edge down the target overnight rate for the first time in nearly three years. As a result, there are signs of some acceleration in money supply. Longer-term bond yields have continued to trend lower, with 10-year government rates recently setting record lows of around 0.8%.
Banks remain in dire straits
The decline in bank lending has continued undiminished, even though firms perceive a stabilisation in lending attitudes, and many borrowers are facing higher rates despite the policy easing. Shorter-term market rates on anything other than government paper generally edged up over the summer. Bank balance sheets remain as encumbered as ever by their bad loans. Official figures for their problem loans as of March 1998 based on broadened criteria were 35.2 trillion yen (5.1% of all loans and 7% of GDP), but selfassessment showed loans worth 87.5 trillion yen (11% of total credit exposure and 17.5% of GDP) to be doubtful or at least in need of careful collection. Private-sector analysts believe that the amount of such loans is higher still, as much as 30% of GDP.
Policy support on a number of fronts has so far been unable to prevent Japan’s recession from deepening, and the need for bolder action has been recognised. Now that the financial legislation has been enacted, the authorities should move expeditiously to recapitalise the banking sector, conditional on its wholesale restructuring. The monetary authorities should continue to ensure that ample liquidity is available and fiscal policy will have to remain at least as expansionary as before. Assuming that these conditions are met and that export markets manage a turnaround, activity may begin to stabilise.